Taxing the Sin of Luxury

The luxury tax and it’s close relative the sin tax are concepts that are up for debate. Depending on which economist you speak to you will get a wide range of opinions on whether this type of tax is helpful or hurtful to the economy. The luxury tax pretty much affects only the wealthy (i.e. those who can afford to buy luxury items) and consist of a tax that is applied to goods that are deemed unnecessary or nonessential. The sin tax applies to things can be seen as extreme, sinful and unnecessary to the individual and to society, like cigarettes and alcohol. Another example of the sin tax is the increased rate at which lottery and game-show winnings are taxed.

The luxury tax was originally imposed during times of war as a way to increase government revenue and to have wealthy families pay more, since theoretically they could afford it. But in reality is it helpful or harmful?

One way of looking at it is to take the concept of Veblen goods. These are items that go up in popularity as their price increases. The reasoning behind this is that it increases the items ‘snob appeal’ and gives the purchaser greater status. Examples of items that could be a Veblen product are fancy cars, expensive wines, designer-handbags, decadent jewelry, furs and yachts. When the price of these items go down then certain people don’t want to buy them as much. These goods are often sought out to increase social status, as a way to show-off to peers and to give the owner a feeling of satisfaction. It all comes down to exclusivity, aka the ‘Snob Effect’.

Those against it argue that adding a luxury tax to an item may curb demand, which will then end up hurting the middle class, i.e. the workers, as their products won’t be sold. If buyers seek other items, when this happens the middle class lose there income and this leads to increased unemployment benefits, so the government actually loses money. For example when a 10% federal surcharge was enacted on luxury goods in the US in 1991, sales of the effected products decreased drastically. Since it led to such a negative effect on the economy through job loss and tax revenues from lost sales it was quickly dropped.

This also happened is Canada in the late 1980s, when a large luxury tax was added to cigarettes. Instead of seeing tax revenue increase, there was actually a decrease as people stopped buying them legally and cigarettes started appearing on an oftentimes violent black market. This led to more government resources being used to fight this crime, and so the tax was soon repealed.

On the other side, the consumers that can afford non-necessities are usually rich and lead extravagant lifestyles. In 2007, luxury goods in the US were a $157 billion dollar industry. Between 1979-2003, income grew 49% for the top 5% of earners and 111% for the top 1%, and it has been shown that even in a slow economy there will always be a luxury market. This is an enormous tax base that could bring much needed revenue to the government.

Sarah Parker is a writer and blogger from Greensboro, NC. She enjoys all things outdoors, especially camping, gardening, and swimming. Her favorite time of the year is summer (of course!) and she aims to leave as tiny of a carbon-footprint as possible throughout her daily life.